Evidence of a slow US recovery is building. Housing starts are rising, business investment is improving, consumer confidence is lifting and the key US Purchasing Managers Index is turning higher.
How can US sharemarkets be within sight of record highs when the American economy is growing at about 2 per cent? And how can US commentators be bullish when there is so much uncertainty about the US election, the “fiscal cliff” and a disappointing quarterly earnings season?
Even more confounding is how the Australian sharemarket can be 33 per cent below its record high when our economy has been among the developed world’s best since the global financial crisis. The answer is that investors look forward and on this score more exposure to the US seems a good investment bet.
Evidence of a slow US recovery is building. Housing starts are rising, business investment is improving, consumer confidence is lifting and the key US Purchasing Managers Index is turning higher. All of this is off a terribly low base and few expect an economic boom. But after years of pain, a modest, sustainable recovery is welcome news.
Even so, the International Monetary Fund forecasts growth in US gross domestic product of only 2.2 per cent in 2012 and 2.1 per cent in 2013. US equity investors are more bullish but their optimism may be because of the sheer weight of money sitting on the sidelines.
Long-term investors need to think carefully about how they add US exposure to portfolios. Valuation risks are high after the rally in US sharemarkets and currency movements add other complications. Those who invested in US-focused managed funds that were unhedged for currency movements are still suffering heavy losses due to the high Australian dollar.
Adding more US exposure to portfolios follows this column’s theme in recent weeks of increasing allocations towards higher-growth assets. I outlined a cautious exposure to the “risk” trade of a stronger China, higher commodity prices and improving emerging markets in 2013. A stronger focus on small-cap stocks and US equities fits that theme.
Choosing the right way to gain US exposure is half the challenge. Conservative investors should stick to a specialist US-focused unit trust from a reputable fund manager. Know the fund manager’s record and how it manages currency risk: a higher Australian dollar could dent returns. Those seeking pure US equities exposure should look for funds that hedge currency risks.
Do-it-yourself investors might consider a listed exchange-traded fund (ETF) that tracks US indices. The iShares S&P 500 ETF is the obvious choice for those seeking broad exposure and its annual fee is just 9 basis points. The Vanguard US Total Market Shares Index ETF, at just 6 basis points, is also worth consideration. Neither ETF is hedged for currency moves, so investors need to be confident that the Australian dollar has peaked.
Another option is focusing on currencies rather than equities. Those bullish about the US economy and bearish on Australia’s could seek exposure to a rising US dollar against the Australian currency. The BetaShares US Dollar ETF is a simple option: it tracks the US dollar relative to the Australian dollar and rises when the US dollar rises (and the Australian dollar falls).
Currencies are notoriously hard to forecast and it is hard to see the local dollar falling well below parity with its US counterpart, even though our currency is overvalued on several measures, commodity prices have fallen and interest rates may be cut again by year’s end. Sticking with equities to gain US exposure seems a better bet than trying to second-guess currencies.
My preferred option is buying quality Australian stocks with high US exposure. They offer better value and, after being beaten up in recent years, have much to gain from a recovering US economy.
Obvious blue-chip candidates are James Hardie Industries, Brambles, News Corp, Westfield Group and Computershare. Unlike Hardie and News, Brambles and Computershare have had only modest gains in the past 12 months. I particularly like Computershare because share registries are so leveraged to a pick-up in sharemarket and corporate activity.
Small-cap investors might consider Breville Group and Infomedia. Breville is the standout: after more than doubling this year, it is fully valued rather than badly overvalued.
Those with a higher risk appetite might consider car parts systems seller Infomedia. About one-quarter of its revenue comes from the US and it is making good inroads in that market. After a terrible few years, Infomedia seems to be regaining the spark it had when considered a star small stock.
The author’s family owns Brambles and James Hardie shares.